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San Francisco’s Office Conversion Ballot Measure May Backfire

The city’s own study about Mayor London Breed’s proposal to make it more profitable to turn empty offices into new homes found that it is unlikely to drive significant savings under current market conditions.

San Francisco Mayor London Breed's measure on the March ballot to make it more profitable to turn empty offices into new homes likely wouldn't kick-start conversions, according to a new city report on the proposal.

Proposition C would waive transfer taxes on converted buildings that are sold for the first time, in hopes of encouraging more projects while reducing the city's record-high office vacancy rate and boosting needed housing.

But the measure is unlikely to be the source of significant savings in the face of high costs, a city analysis concluded. If market conditions change and more conversions end up happening, it could result in lower taxes due to fewer jobs, according to the report released Friday from the controller's office.

"Conversion of office space to housing does not appear to be financially feasible at the moment, and the proposed incentive is likely too small to close the feasibility gap," the report said.

The pessimistic outlook comes as only a handful of downtown office properties have looked into housing conversions and real estate experts have said it isn't a silver bullet to fix the area's remote work-related woes. Breed faces a tough reelection campaign this year amid a budget deficit stemming largely from lower property and business taxes.

The report noted that there could be more effective ways to encourage new housing development without using a tax break, such as "through zoning changes that could be economically and financially beneficial to the city."

The report cites the wide gap between buying and redeveloping San Francisco office space, which is still some of the most expensive in the country even after pandemic discounts, and the profit potential on condos and apartments at a time when demand has weakened while construction costs are high.

Downtown condos are selling at an average of $1.2 million, or $903 per square foot, and the tax incentive would result in a roughly $9,000 per unit tax exemption, or $6.77 per square foot, the city analysis found. Apartment buildings, which are sold in bulk and generally subject to a higher transfer tax rate, would be expected to save around $33,360 per unit, or $41 per square foot.

But that would result in only a 2 percent reduction in development costs for condos or a 6 percent reduction costs for apartments, based on a recent cost analysis by the think tank SPUR that the city report cited.

If the measure passes and conversions end up happening, the city would likely lose out in taxes as uses shift from offices to housing. That's because of an expected loss in business taxes, which wouldn't apply to residents, on top of the loss in transfer taxes. Annual property taxes are expected to grow following renovations, but it would take a long time for the city to recoup the revenue from the tax break — an estimated 102 years for converted apartments.

"If market conditions change in the future, and conversions do become feasible, the proposed incentive is likely to lead to a negative economic impact, and an extended period before foregone transfer tax revenue is recouped by higher property tax revenue for the City," the report says.

Over the span of 20 years, an estimate said for "every 100,000 square feet of office space converted, total employment in San Francisco would decline by 155, population would grow by 462, and the city's (gross domestic product) would decline by $49 million." That's with the assumption that lower-tier office space, known as Class B, stabilizes at a 25 percent vacancy rate citywide and residential is at 5 percent vacancy.

More residents downtown could lead to other benefits, including foot traffic for local businesses and economic diversity. The report didn't analyze those potential upsides.

(c)2024 the San Francisco Chronicle. Distributed by Tribune Content Agency, LLC.
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